What do Banks' investments say about India's credit cycle?

- Manika Premsingh

A depressed investment cycle is well known, and latest RBI numbers on banks' 'Business in India' as it calls it, are yet another proof. Banks' investment-deposit ratio has been on the rise, which is statistically explained by the fact that while deposits grew at a slower rate (hence smaller denominator), investments grew at a faster pace (hence, larger numerator) in 2012 as compared to 2011. 

Chart Source: RBI

This trend raises two important questions for investments in the Indian economy today:

• Why is deposit growth slowing down?
• What does this trend imply for the credit cycle in the economy?

Deposit growth slow down is likely explained by two factors: (i) a decline in modal bank deposit rates of banks in 2012-13, making it a less attractive investment option and (ii) continued high inflation combined with growth (and income) slowdown resulting in a slowing down in growth of or decline in real incomes leaving less savings in the hands of potential depositors. 

Despite this slowing deposit growth though, investment-deposit ratio has risen - which, can only be at the cost of credit. Indeed, credit growth in the economy has slowed down (see chart) and according to latest reports, banks are loaning out lower proportions of fresh deposits in comparison with the last year. 

This could be because of two reasons: (i) lower demand for credit as demand remains weak and there is no appreciable decline in lending rates and (ii) banks are apprehensive to lend at a time of rising non-performing assets (NPAs), a trend that could get exacerbated as the Finance Ministry has now directed all PSU banks (which also covers SBI, the largest lender in the country today) to bring NPAs down to 1% of total advances by end of 2013-14. 

Either way, neither trend points in a healthy direction for the Indian investment cycle, and relatedly, growth cycle. While a recovery from the recent economic troughs maybe imminent, it will likely be some time before we can hit genuine sustained high growth- irrespective of what fiscal or monetary policy measures are taken.